What is PAYE?
PAYE, Pay As You Earn, is HMRC's system for collecting income tax and National Insurance from employees' wages through the employer's payroll every time they are paid.
What PAYE means
Under PAYE, tax is taken from wages as they are earned rather than in one bill at the end of the year. The employer works out each employee's tax using their tax code, deducts it along with employee National Insurance, student loan repayments and pension contributions, and pays the total to HMRC.
Every pay run is reported to HMRC in real time through a Full Payment Submission. The money is due to HMRC by the 22nd of the following month if paid electronically (the 19th by post). Small employers paying less than £1,500 a month on average can ask to pay quarterly.
Example
A company pays an employee £3,000 gross for the month on a 1257L code. Roughly:
| Item | Amount |
|---|---|
| Gross pay | £3,000.00 |
| Income tax (20% of £3,000 less £1,047.50 monthly allowance) | £390.50 |
| Employee NI (8% of £3,000 less £1,047.50) | £156.20 |
| Net pay to employee | £2,453.30 |
| Employer NI (15% of £3,000 less £416.67) | £387.50 |
The company pays HMRC £934.20 for this employee: the tax and both lots of National Insurance, unless the Employment Allowance covers the employer's share.
Why it matters for your business
You must register as an employer with HMRC before the first payday if anyone you pay earns above the lower earnings limit, gets a pension or benefits, or has another job. That includes paying yourself a salary as a company director.
Late Full Payment Submissions and late payments attract penalties, and HMRC can charge interest. Most small businesses use payroll software or an accountant to run PAYE, because it also covers auto-enrolment pensions, statutory sick pay and parental pay.
Your PAYE references
When you register, HMRC issues an employer PAYE reference (like 123/AB45678) and an accounts office reference used when paying. Employees need the employer reference for things like claiming tax relief, and it appears on their P60 and P45.
Common PAYE mistakes
The usual problems are paying staff before registering as an employer, forgetting to report a leaver, using the wrong starting tax code for a new employee, and paying HMRC late because PAYE money was mixed with business cash. Each late Full Payment Submission can bring a penalty once you have had one free default in the year, so a fixed monthly routine pays for itself.
Cloudkeepers runs PAYE payroll for small businesses, from one director to a full team.
Common questions
Yes, if you pay yourself a salary at or above the lower earnings limit, which most directors do to protect their State Pension. You register the company as an employer and run payroll, even if it is just you.
By the 22nd of the month after the tax month ends if you pay electronically, or the 19th by cheque. A tax month runs from the 6th to the 5th. Small employers can pay quarterly if their average monthly bill is under £1,500.